Is Prospect Capital a Worthwhile Investment?

This column originally appeared exclusively first for Stock Investor Cheat Sheet premium subscribers on February 11th and has been updated to reflect current data changes.

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With shares of Prospect Capital Corporation (NASDAQ:PSEC) trading at around $11.39, is PSEC an OUTPERFORM, WAIT AND SEE or STAY AWAY? Let’s analyze the stock with the relevant sections of our CHEAT SHEET investing framework:

C = Catalyst for the Stock’s Movement

dividendsIf you’re looking for a safe investment with substantial yield, then Prospect Capital should be strongly considered. It’s not easy to find a safe investment that yields 11.50 percent. Prospect recently announced its 55th, 56th, and 57th consecutive cash distribution to shareholders. Since 2004, there has been over $675 million in cumulative distributions.

Q2 EPS came in at $0.51 per weighted average number of shares. This was a 55 percent increase year-over-year. Q2 net investment income was $99.2 million, which was a 172 percent increase year-over-year. Net investment income for the current quarter is expected to come in between $0.27 and $0.21 per weighted average number of shares. Net investment income per weighted average number of shares has exceeded cash distributions per share for five consecutive quarters.

Origination efforts last quarter focused primarily on securitized loans, especially first-lien loans. Prospect Capital is also looking to close selected subordinated debt and equity investments. Prospect Capital has seen increased investments in third-party equity sponsor-owned companies and has three new investments in the real estate market that total nearly $50 million. Most importantly, Prospect Capital is one of the largest middle-market credit groups in the industry, which allows the company to strategically select the best investments out of thousands of opportunities.

Let’s take a look at some important numbers prior to forming an opinion on this stock.

E = Equity to Debt Ratio Is Normal  

The debt-to-equity ratio for Prospect Capital is normal. The balance sheet is in negative territory, which is normal for high-yield companies, but that shouldn’t be used as an excuse. There is room for improvement.

Debt-To-Equity

Cash

Long-Term Debt

PSEC

0.48

$2.22 Million

$1.11 Billion

AINV

0.63

$43.69 Million

$1.04 Billion

MAIN

0.54

$19.58 Million

$297.08 Million

 

T = Technicals on the Stock Chart Are Strong

Prospect Capital has performed well over the past three years, especially for a company offering such generous dividends. Prospect Capital has also outperformed Apollo Investment Corporation (NASDAQ:AINV) and Main Street Capital Corporation over the past month. However, what dividend investors care about most is yield. As mentioned earlier, Prospect Capital currently yields 11.50 percent. Apollo Investment yields 9.50 percent. Main Street Capital yields 5.60 percent.

1 Month

Year-To-Date

1 Year

3 Year

PSEC

3.02%

5.86%

15.68%

46.16%

AINV

-2.74%

2.03%

29.79%

11.05%

MAIN

0.95%

6.64%

51.31%

188.30%

 

At $11.39, Pacific Capital is currently trading above all its averages.  

50-Day SMA

11.07

100-Day SMA

11.15

200-Day SMA

11.17

 

E = Earnings Have Been Steady            

Aside from one hiccup over the past five years, earnings have been steady. Revenue has consistently improved over the past five years.    

2008

2009

2010

2011

2012

Revenue ($)in millions

79.40

100.48

114.56

169.48

320.91

Diluted EPS ($)

1.17

1.11

0.33

1.38

1.67

 

We already know what happened this quarter. Now let’s take a look at previous quarters as well.

9/2011

12/2011

3/2012

6/2012

9/2012

Revenue ($)in millions

55.34

67.26

95.62

102.68

123.64

Diluted EPS ($)

0.37

0.59

0.44

0.27

0.29

 

Let’s take a look at the next page for the Trends and Conclusion. Is this stock an OUTPERFORM, a WAIT AND SEE, or a STAY AWAY?

T = Trends Support the Industry

The biggest fear is a steep correction in the market due to the industry’s susceptible nature to
downturns. However, if we look at the financial crisis of 2008/2009, all the companies listed in this article survived. It’s unlikely, though still possible, that any near-future drop in the market will be as steep. If you’re concerned about another potential free-fall in the market, yet you don’t want to give up healthy dividends, look at Main Street Capital. Of the three companies listed in this article, Main Street Capital managed the storm best in 2008/2009. However, you will be giving up a lot when it comes to dividends. It comes down to your risk tolerance. That said, Prospect Capital held its own during that dark time. Apollo Investment was the only company of the three that put horror into the hearts and souls of its investors.

Conclusion

Prospect Capital’s most appealing feature is dividends, but it’s not the only positive. For example, margins are solid, loans are performing well, there is steady growth, there has been consistent insider buying, and the Forward P/E is 8.90. This is also a company that focuses on recurring and stable cash flow streams so it can offer dividends to its shareholders.

Prospect Capital is a long-term OUTPERFORM.

Using a solid investing framework such as this can help improve your stock-picking skills. Don’t waste another minute — click here and get our CHEAT SHEET stock picks now.